Delinking of US and China economies to weigh on Asian equities in 2019, says UBS

Chinese equities could decline by 20-25 per cent, US equities could decline by 5-10 per cent and the US dollar might appreciate against the euro if trade war were to worsen, according to outlook for year ahead

A long cycle of conflict will accompany the gradual delinking of the world’s two biggest economies, despite an apparent thaw in relations between the United States and China at the G20 summit in Argentina recently, according to a report on the outlook for the year ahead released by Swiss bank UBS on Thursday.

The uncertainty this brings will weigh on Asia’s investment outlook in 2019. “Economic considerations may be given less priority in future policy setting. As such, investors should prepare for relations between the two powers to continue affecting markets,” according to the report.

In a key downside scenario presented in the report, analysts said they expected Chinese equities to decline by 20-25 per cent, US equities to decline by 5-10 per cent and the US dollar to appreciate to about 1.1 against the euro, if the US-China trade war induces a slowdown in China and leads to considerable uncertainty and a re-routing of global trade, which will cause more countries to feel the pain via disrupted supply chains.

Just three days after sentiment was lifted by a meeting between Chinese President Xi Jinping and US President Donald Trump in Buenos Aires, global markets were shocked on Thursday by the detention of Huawei Technologies’ chief financial officer in Canada. The US is requesting Sabrina Meng Wanzhou’s extradition on charges that the company had breached US sanctions on Iran.

Markets in mainland China and Hong Kong fell following the news, as concerns arose that the 90-day truce agreed by Beijing and Washington had been broken with Meng’s detention.

Sue Trinh, head of Asia FX strategy at RBC Capital Markets, said the market had become too positive.

“We think the market had priced in a lot of positive news already after being flagged all month by both sides. A lot will depend on developments in the next 90 days, but given the US and China are on different pages, we don’t think the optimism can last,” she said.

UBS analysts recommend that investors retain an overweight position in global equities as they enter 2019. But they should also hedge against volatility by holding overweight positions in medium duration US government bonds and the yen, as well as by focusing on quality companies and avoiding excessive credit risk.

They also reminded investors of opportunities to come from tariffs. South Korean stocks may rebound as technology players fill the gap created by US restrictions on Chinese manufacturers. That same dynamic could also boost Japanese semiconductor and machinery makers. The migration of low-end supply chain from China could accelerate in Vietnam and across Southeast Asia. And if the trade war were to escalate further, investors may pivot to equities in domestic-oriented economies such as India’s, according to the report.